1 / 16

Analysis of the intrinsic profitability of segments

A powerful methodology for strategic analysis. 108 rue Damrémont 75018 Paris arestan@arestan.com. Analysis of the intrinsic profitability of segments. Example and approach. September 2003. Objectives of the module.

shina
Download Presentation

Analysis of the intrinsic profitability of segments

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. A powerful methodology for strategic analysis 108 rue Damrémont 75018 Paris arestan@arestan.com Analysis of the intrinsic profitability of segments Example and approach September 2003

  2. Objectives of the module • To understand the relative levels of profitability of segments in the business portfolio • To identify the factors that drive the unit’s current performance • To grasp the evolution of the profitability of the segments in the next 2-3 years Analysis of the intrinsic profitability (GB)

  3. Methodological principles of the module (1/2) 4 steps from analysis to comprehension and synthesis Identification Of key questions • Evaluation of the gap between the current and the intrinsic performance • Volume Effect • Mix/price effect • Productivity effect • Non-quality effect • ….. • Design of the relevant economic model for success in the segment • Target Market Share • Target Marketing Mix: offer, price, presence, promotion • Organization, headcount and costs for the value chain • Profitability : EBITDA/Sales • Quantification of the unit’s performance in the segment • Market Share, Turnover • Cost structure • Profitability : EBITDA/Sales Analysis of the intrinsic profitability (GB)

  4. Direct Operating Margin (pre-tax) = % Sales Methodological principles of the module (2/2) Retained hypothesis Turnover and volume of an actor having a significant position in the segment Total costs of access to the market of an actor organized according to key success factors for the segment The intrinsic profitability represents, in principle, the best possible performance, but under certain conditions, some actors could surpass this level due to their peculiar organization which are not reproducible by the majority of actors (see further in the case study Competitor 1 in Segment S1) Analysis of the intrinsic profitability (GB)

  5. Module pre-requisites • Segmentation • Size • Key Success Factors • Key drivers of the segment • Competition • Volume, Market Share, Mix and price objectives • Organizational structure • Intimate knowledge of • The value chain • Production • Logistics • Sales/marketing • After sales service • Infrastructure • Evaluation of the cost structure of each link in • The value chain • Quantification of the client’s current position • Evaluation of the gaps • Analytical accounting • ABC • Client’s active participation • In the process • Contribution to content • Appropriation via exchanges • Discussions on the strategic level • Remove the passion form the debate Analysis of the intrinsic profitability (GB)

  6. Context in which the module can be applied • Existing markets which are neither embryonic nor in total turbulence • A sufficiently detailed segmentation to render a general analysis/study non conclusive or difficult to carry out • Portfolio segments with distinctive strategic logics • A concern, or even surprise, over the economic performance of the unit compared to its competitors in the segment Analysis of the intrinsic profitability (GB)

  7. Example of an actual application • Client (identified by TI) • Producer of transformed industrial consumables integrated to a raw material producer • Leader in the sector in Europe, without having any strong position on any of the segments • Characteristics of the portfolio • 5 identified major segments • S1 : segment with strong links to the auto industry • S2 and S3 : commodity segments • S4 : non-differentiated segment, with specific service needs • S5 : specialty segment Analysis of the intrinsic profitability (GB)

  8. The utilized cost structure The model to calculate the intrinsic profitability of each of the 5 segments Turnover and volume of a significant actor in the segment Material costs Purchasing Production Shipping Sales/Marketing and customer service Research & Development Depreciation % DOM/Sales Intrinsic profitability of each segment (excluding general management and IS) Direct Operating Margin (DOM) Analysis of the intrinsic profitability (GB)

  9. Illustrative example of the quantification (1/2)Market hypothesis (To evaluate the turnover and volume of a significant actor) Identified segments S1 S2 S3 S4 S5 Market size (Vol – Ktons) Market structure (% Direct) Market structure (% Distrib) Unit price Direct (Euros/t) Unit price Distrib (Euros/t) 90 100% 0% 1 647 NA 80 0% 100% NA 1 647 40 0% 100% NA 1 677 190 30% 70% 2 241 2 119 15 100% 0% 2 515 NA % Market share of the actor (The model actor and not the client) Sales volume of the actor (Kt) Turnover of the actor (MEuros) 25% 23 38 15% 12 20 15% 6 10 15% 29 63 40% 6 15 Analysis of the intrinsic profitability (GB)

  10. Illustrative example of the quantification (2/2)Evaluation of the cost of sales/marketing and customer service for the model actor Identified segments S1 S2 S3 S4 S5 Market manager (Total costs= 230 KEu) Technical assistance (tc= 150 KEu) Sales Administration (tc= 75 KEu) Relationship management 1 pers 2 pers 2 pers 2,5% of TO(1) 1 pers 0 2 pers 1% of TO(1) 0,5 pers 0 1 pers 1% of TO(1) 2 pers 1 pers 3 pers 1,5% of TO(1) 1 pers 1 pers 1 pers 2% of TO(1) Turnover of the actor (MEuros) Cost of sales/marketing/service (KEu) (The model actor and not the client) 38 1 630 20 580 10 290 63 1 780 15 755 (1) TO = Turnover Analysis of the intrinsic profitability (GB)

  11. 100% 5 % Sales DOM 17 19 90% 21 23 80% 33 70% Non 23 materials 27 36 28 60% 50% 40% Materials 63 30% 58 52 49 47 20% 10% 0% Intrinsic profitability of segments Level of profitability in % DOM/Sales S1 S2 S3 S4 S5 Analysis of the intrinsic profitability (GB)

  12. Some conclusions derived from the intrinsic profitability chart • Even though the S1 segment is a technically oriented segment, its intrinsic profitability is very inferior to other segments. This could be explained by the fact that: • The purchasing power of Auto equipment manufacturers pulls the prices down • The race to reach the critical size among the competitor has accentuated the competition • The sales and marketing efforts are not always remunerated because the equipment manufacturers can integrate ths activity at any time In this context, an actor in this segment is confronted with critical choices: • Integration with a supplier of raw materials to take advantage of synergies (see Competitor 1 further) • Achiving a significant market share (Competitors 1&2) • A downstream move to take a bigger share of the alue chain without reaching the rank 1 equipment manufacturing stage • The high intrinsic profitability of non-differentiated segments (S2, S3, S4), foretells an increased competition accompanied by price pressure, which actually reached 10-13% the following year In this context, survival in these segments dictates: • An efficient organization of the entire value chain • A significant market share to take advantage of the economies of scale and to increase the capacity to act as a leading market maker Analysis of the intrinsic profitability (GB)

  13. 25,0 % Sales Intrinsic profitability % DOM/Sales 20,0 TI profitability % DOM/Sales 15,0 10,0 5,0 0,0 S1 S2 S3 S4 S5 -5,0 Estimation of the contribution of each of the client’s 4 issues to the gap with respect to the intrinsic profitability Materials (incl. waste) Non quality Productivity Volume -10,0 Evaluation of TI’s relative position with respect to the intrinsic profitability Analysis of the intrinsic profitability (GB)

  14. Comments on TI’s profitability gap • The most significant gaps between TI’s profitability and the intrinsic one in this segment emanate from the cost of non-quality and its sub-optimum size. Its advantage in materials (-3.7%) is offset by its above-average materials wastage. The gaps are mainly due to TI’s insufficient size in this segment and the cost of materials (use of internal high quality, therefore expensive, materials, which are largely above the needs of the segment.) The gaps are mainly due to the cost of materials (see comments on S2), and the productivity linked to the use of xx technology instead of yy or zz. The gaps are mainly due to the cost of materials (see comments on S2), the productivity linked to the use of xx technology instead of yy or zz, and insufficient size. • The gaps are mainly due to an above-average level of materials wastage S1 S2 S3 S4 S5 Analysis of the intrinsic profitability (GB)

  15. An example of a strategic deduction • Estimation of profitability positions S1 12,0 Segment % DOM (pre-tax) 10,3 S1 Sales 10,0 % CA 8,0 3,2 pts = materials 1,8 pts = sourcing 1,0 pts = volume -0,4 pts = shipping 5,1 6,0 4,6 4,0 2,0 0,0 Intrinsic Competitor 1 Competitor 2 TI -2,0 -4,0 -5,2 -6,0 • Competitor 1 enjoys significant competitive advantages related to its total integration with the parent company (materials supplier), concentration on the segment, and a market domination • Competitor 2 approaches the intrinsic profitability because its position resembles that used in the model. Analysis of the intrinsic profitability (GB)

  16. Arestan Consulting Arestan Consulting works with executives and management teams on the development of their organizations’ future. Our collaborative approach is focused on the following expertise: Strategy Innovation Organizational Effectiveness • Create the environment to get the most from new ideas and intuition • Build balanced corporate structures and processes (rigor, flexibility, adaptability) to enhance a company ’s new ventures and intrapreneurship initiatives • Develop Strategic Business Designs and Models for new ventures • Develop Business Plans for new activities and innovative start-ups • Design structures and organizations for effective corporate governance • Build effective management processes (capital allocation, human resource management, budgeting, strategy and portfolio planning) • Design efficient and decision enabling reporting tools and processes • Improve the productivity and effectiveness of Sales, Marketing and Customer Service functions • Develop and implement successful outsourcing strategies • Create a dynamic business portfolio to deliver value through asset productivity • Develop and implement strategies to deliver profitable growth through leveraging the company ’s core competencies and assets • Transform the Business Planning exercise into a powerful business development and evaluation process • Enhance profits through innovative customer-focused value creating strategies • Develop innovative channel strategies • Develop and implement customer driven key account management strategies To obtain more further information on Arestan Consulting, you can contact us 108, rue Damrémont or Tel : +33 (0) 6 11 48 20 56 75018 Paris - France email: arestan@arestan.com Analysis of the intrinsic profitability (GB)

More Related